Q: Kindly advise on an investment vehicle for a lump sum of R1.5m where I’ll need to supplement my monthly pension from NJMPF – a guaranteed benefit fund. I retire at the end of December 2017, with 17 years’ service. Would it be wise to invest in a guaranteed investment plan/annuity for five years?
I’m glad you are asking the question as it appears that investors are less informed than they should be when making these crucial decisions leading up to their retirement. The chart below shows that between 2014 and 2015 investors were taking less independent advice before making their decision as to which type of annuity they should buy. The trend shows that the purchase of annuity without the appropriate advice is on the rise.
Note that the information provided was limited and a more comprehensive knowledge of your situation is required. The question that one could ask is what portion of your retirement income does the R1.5 million need to account for and can you afford for it to go through periods of volatility if the performance is linked to the market? If this capital is to provide a meaningful part of your retirement income then your time frame would need to be long-term rather than five years as stated. A guaranteed annuity would give you income that could increase by inflation while a market-linked annuity could give a more flexible income that is liked to its performance.
This brings into question the issue of risk tolerance. If you are looking for an outcome that is market linked that can have a degree of volatility at times, then a market-linked annuity could be appropriate.
With a market-linked/voluntary annuity you take the risk of making sure that you can appoint a financial advisor to manage your portfolio successfully and give you sound financial advice. For such an important decision don’t be hesitant to approach several advisors and ask for a proposal as to how they would recommend you proceed with your retirement capital. I would also recommend that you make use of independent financial advisors rather than those linked to life companies.
The graph below shows the performance of four top quartile balanced funds versus the average South African multi-asset high equity fund (in yellow) over the same period. Note that this period includes the financial crisis and the poor performance of the JSE in 2015 and 2016.
Over the long term an investor given the right asset allocation to top fund managers should be able to meet a return of inflation +5% (for a balanced investor). The issue is volatility and whether or not the investor can sit through the cycle of market returns.
The graph below shows the extent of loss that an average balanced fund would have incurred during the 2008-2009 financial crisis. During this period investors saw their capital depreciate up to 20%. It illustrates how it took 15 months to recover to its previous value.
This suggests to me that if an investor is able to bear the volatility of market cycles provided that they have top quartile managers in their portfolio (such as the first graph), then a market-linked annuity could be a better option.
In your case, if you were to have the majority of your pension in the NJMPF guaranteed benefit fund, one of your options could be to have a diversified market-linked annuity. A living annuity with an allocation of R1.4 million could provide a good vehicle in which to supplement your pension with an income for the rest of your life and not for a period of five years. The capital would grow tax free while the annuities will be taxed as income at your marginal rate. I would also recommend using a linked investment service provider or unit trust to hold R100 ooo as an emergency fund where you would be able to access the full amount should you need to. This provides the comfort liquidity.
If the capital grows by inflation each year while you draw an income from the excess return, you will be able to leave a legacy behind for your children rather than having the capital fall away after your death if it were to be invested in a guaranteed annuity. Note that if you were to choose a guaranteed annuity you would be wise to consider one which increased by inflation each year.
Before you make your final decision you should have a full discussion with an independent financial advisor to ensure that you are able to make a fully informed decision.
All the best for your retirement.